Is the Bull Market in Gold Over?

Gold hit three new record highs last week. This week, following the announcement by the US Fed on Tuesday, it is hitting still more highs…closing in on $1,300 as we write.

Gold should go up with consumer prices. But, for nearly two decades – from 1980 to 1999 – gold went down while consumer and asset prices rose. Now, consumer prices are stable. Yet gold hits new records.

All views on gold are baroque. There’s no line of thought on the subject that doesn’t have a curve in it. Some buyers are loading up on gold because they see a recovery coming. Others are buying it because they don’t. Recovery, say some, will boost consumer appetites, resulting in higher inflation levels and a higher price for gold. The absence of recovery, say others, will cause the Fed to undertake more money printing.

Those who have no opinion on the matter are among gold’s most aggressive buyers. To them, gold looks like a “can’t lose” proposition. If the economy improves, gold rises naturally. If it doesn’t improve, the Bernanke team will force it up.

And if not Bernanke, the Chinese. Gold makes up only 1.7% of China’s foreign exchange reserves. Many analysts believe China is targeting a 10% figure. If so, it would have to buy every ounce the world produces for two and a half years. Or, if it relies on only its own production – China is the world’s largest producer – it would take nearly 20 years of steady accumulation to reach the 10% level.

The metal holding down the 79th place in the periodic table has many uses. People make spoons, forks and bathroom faucets out of it. It’s occasionally used as roofing, or even as a murder weapon; Crassus had molten gold poured down his throat after being captured by the Parthians. And Lenin said he would line the public latrines with it. But the best use ever found for it was as money – as a reliable measure of wealth.

Even gold is not perfect as money. During the years following the Spanish conquest of their New World territories, for example, gold flooded back into the Iberian Peninsula. Soon there was much more gold than the other forms of wealth it was meant to represent. Each incremental ounce of gold was disappointing. It bought only a fraction as much as it had before this monetary inflation began. And had you bought it in 1980 you would have seen 90% of your purchasing power disappear before the bottom finally came. Even today, you still would not be back at breakeven. The price of gold will have to almost double from today’s level to reach its inflation-adjusted high of 1980.

But this is what makes gold very different from other money. If you happen to have a billion-Mark note from the Weimar Republic or a trillion dollar note from Zimbabwe, you can hold onto that paper until hell freezes; its value will never return. Gold, on the other hand, will never go away. And when the post-1971 monetary system cracks up, gold is likely to return to its 1980 high…and keep going.

Over the centuries, mankind has often experimented with alternatives to gold. Driven by larceny or desperation, base metal and paper were tried on many occasions. Paper was particularly promising. You could put as many zeros on a piece of paper as you wanted, creating an infinite supply of “money,” as Ben Bernanke once noticed, at negligible cost. But the experiments all ended badly. People realized that money gotten at no expense was only gotten rid of at great cost. Given the ability to create “money” at will, a central banker will sooner or later create too much.

But one generation learns. The next forgets.

By 1971, Americans had forgotten everything they ever knew about money. Richard Nixon cut the final link between the US dollar and gold.

At first, it looked as though investors hadn’t noticed. But then began a great bull market in gold that took the price from $43 to $850. And just then, when investors were most sure that paper dollars would soon be worthless, a remarkable thing happened. Paul Volcker intervened. He made it clear that if the dollar were to go the way of all paper, it wouldn’t be on his watch. Inflation rates fell, along with gold.

Whatever shards of monetary wisdom were still lying on the ground intact in 1971 have since been ground to dust. Now, Ben Bernanke strives as diligently to destroy the dollar as Paul Volcker did to protect it. And another generation awaits a whack on the knuckles.

Bill Bonner

Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.

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